Quarterly in advance Summer 2018 – Assign of the times?

09 / 07 / 2018

The assignment clause in a commercial lease – where are we now?

Most commercial leases allow the tenant to assign the lease subject to first obtaining landlord’s consent. The assignment clauses commonly seen today are a far cry from the assignment clauses encountered 10 or so years ago. What has driven the changes in the way we approach the assignment clause in a modern commercial lease? It has been a combination of statute, industry intervention and case law.

With the advent of the Landlord and Tenant (Covenants) Act 1995 (the 1995 Act), it became open to landlords to specify in the lease certain conditions that must be satisfied; and certain circumstances that must apply, in order that the tenant may lawfully assign the lease. The nature of such conditions and circumstances imposed by landlords has changed over time, but they remain a key area of lease negotiation.

1. The financial standing of the incoming tenant – gone are the old days of the profit test, or general wording requiring the incoming tenant to be of at least equivalent financial standing as the outgoing tenant. One would now expect to see that the incoming tenant must be of sufficient financial standing to enable it to comply with the tenant’s covenants in the lease. A well advised tenant should ensure that the assessment of the covenant strength of the incoming tenant takes into account any security offered in respect of the incoming tenant.

2. Compliance with tenant’s covenants – it’s no longer so easy for landlords to get away with the requirement that the tenant must have complied with all of the tenant’s covenants in the lease. One would now expect to see a requirement that the principal rent is paid up-to-date. A landlord might also be able to win wording requiring that there are no other material breaches of the tenant’s covenants, particularly the repairing covenant. A well advised tenant, if accepting such wording at all, would at least require that the landlord can only refuse consent to assignment on this ground if the tenant has first been notified of the material breach but has failed to remedy.

3. Authorised Guarantee Agreements (AGAs) – most leases include a condition that an AGA must be given by the outgoing tenant in any event, regardless of the incoming tenant’s covenant strength. A landlord might be willing to agree a diluted condition that it may only require an AGA where reasonable for it to do so. The Model Commercial Lease includes such a reasonableness requirement. The Code for Leasing Business Premises in England and Wales 2007 (the Code) prescribes that AGAs should only be required if, at the date of the assignment, the incoming tenant (together with any guarantor) is either: (i) of lower financial standing than the outgoing tenant (and its guarantor); or (ii) resident or registered overseas. The Code’s position on this is not reflected in most commercial leases – tenants generally appear to be more relaxed than one might expect in relation to remaining on the hook under an AGA post assignment.

4. Guarantees – most leases include wording allowing a landlord to impose, as a condition of assignment, procurement of a third party guarantor to guarantee the incoming tenant. Tenants are obviously keen to ensure that the landlord may only require this where reasonable so to do. A string of recent case law relating to guarantors in the context of lease assignment has resulted in a seismic shift in the approach to the issue of guarantees on assignment. Historically, assignment clauses have allowed (some have even required) that the guarantor of the outgoing tenant guarantees the incoming tenant. The industry is now having to address the current (and commercially unsatisfactory) law in this area – a guarantor of the outgoing tenant cannot guarantee the incoming tenant, nor can the outgoing tenant assign to its guarantor, even where the guarantor chooses to offer such guarantee or take such assignment. It’s a difficult area for landlords and tenants alike and has caused concern particularly in the context of group company assignments. However, we do not yet commonly encounter express drafting in assignment clauses prohibiting these events which case law has now confirmed to be unlawful. The Model Commercial Lease has been amended recently to reflect recent case law on guarantors. It now expressly prohibits assignment to a guarantor of the outgoing tenant and the condition requiring procurement of a third party guarantor for the incoming tenant expressly states that such guarantor cannot be a guarantor of the outgoing tenant.  As long as we are stuck with such unsatisfactory case law, one would expect drafting such as this to evolve and become a standard feature of the assignment clause in a commercial lease. This is how the condition requiring the outgoing tenant’s guarantor to provide a sub guarantee (or GAGA) evolved – the provision of a sub guarantee (or GAGA) by the outgoing tenant’s guarantor is now a standard industry requirement on assignment.

Conclusions – does approach to negotiation and expectation as to content of the assignment clause reflect where one sits in the property industry hierarchy? I recall the advent of the Code, at a time when I was acting for some organisations which had signed up to it – Code friendly leases were churned out upon their instruction. Some of the key industry players wanted to be seen to be Code friendly landlords and wanted less time spent on negotiation. However, at this time, when key property outfits and those representing them were Code enthusiastic, this had not filtered down to smaller business organisations (the very business organisations the Code sought to assist) or smaller law firms. This has taken time. It is still rare to see Code compliant assignment clauses, but, over a period of time, the Code has influenced the approach of the industry as a whole, as of course, necessarily, has case law and statute. Modern assignment clauses are generally simpler and fairer, with the exception that the industry is having to address recent unwelcome case law on guarantors.